Behind Europe's Drive Toward a Single Currency
New rules set tight constraints on members, but none will risk losing gains of integration
GERMANY'S financing of reunification and France's socialist experiment with a centrally managed economy in the earlier 1980s may seem to have little in common.Both, however, are major policy decisions that would have been impossible if Europe's economic and monetary integration had been set in motion a decade earlier. The European Community decided last week that such a union should culminate in a European Central Bank and single currency no later than 1999. The two policies, as the two governments chose to finance them, would have been impossible because they caused fluctuations in principal economic criteria that the EC has established as the basis for participation in monetary union.
Single currency benefit That sovereign governments are willing to give up such autonomy indicates just how desirable a single currency is, and how adamant Community member states are about not being left outside the Community's inner circle. The European currency unit (ECU) will be "the strongest currency in the world, more powerful than the dollar," says French President Francois Mitterrand, because it will be "more stable" and underpinned by six or seven times the reserves behind the dollar. "The drive to take part in this symbol of Europe is very strong in all these countries," says Jacques Pelkmans, a senior research fellow at the Center for European Policy Studies in Brussels. "No one wants to be a second-class European." Willingness to abandon a national currency also suggests just how little choice governments believe they have in managing their economic affairs independently when economies are increasingly integrated at a Community-wide level. The era of extravagant economic experiments and spending to create jobs appears to be over, replaced by tight fiscal and monetary management. France is now one of Europe's best practitioners of monetary rigor. The country's financial leaders learned again recently how little margin for maneuver they have in relation to Europe's economically dominant Germany. Barely a month after the Banque de France dropped interest rates by a quarter point in an effort to stimulate the economy, rates were bounced back up a half point in mid-November. The rate cut, although welcomed by business leaders, had quickly weakened the French franc in relation to the German deutsche mark. In calling for monetary union, leaders of countries already in a de facto deutsche mark zone argued that they would have some part in setting monetary policy through a central bank whose board of directors included members from all participating countries - whereas in the German Bundesbank they have none. In addition to France, countries with close links to Germany include Belgium, the Netherlands, Luxembourg, and Denmark. With last week's agreement in Maastricht, Netherlands, stipulating that monetary union can begin in 1997 only if a majority of EC members satisfy a set of strict economic convergence criteria, this group would have to be joined by one other member for union to begin at its early date.
1997 union not likely But even a member or two of the core group - most notably Belgium - will have trouble meeting the 1997 deadline. Most analysts believe union is more likely to occur in 1999 when more countries can join. For countries that are less integrated into the German-led European economy, giving up the flexibility to adjust interest rates, revalue money, or build up temporary debt will be painful - as will be the effort to fall in step with the Community's best economic performers. The advantages of monetary union are clear. Industry and business will save hundreds of millions of dollars in currency exchanges. Though the current European Monetary System, which requires participating currencies to remain within specific fluctuation bands, has created a very stable system, a single currency will help remove investors' uncertainties. That stability will also help keep inflation down. Lower inflation across Europe will "allow higher [economic] growth rates ... than in the US," without triggering inflation, says J. Paul Horne, a senior analyst with Smith Barney in Paris. A single, powerful money, perhaps one day the world's most influential, will also play a part in building Europe's international role and have consequences well beyond Europe. "The ECU will become immensely popular with international investors," says Mr. Horne. "The Bank of Japan will invest more in ECU bonds at the expense of dollar bonds. It will be more difficult for the US to finance its current accounts deficit," he adds, "and that means higher interest rates in the US." Some EC countries are also counting on the strict requirements of monetary union to force political leaders to make the hard decisions necessary to "put their houses in order." Italy is the EC's most glaring case in point. Although it has an economy larger than Great Britain's and enjoys great wealth in some regions, it also suffers from huge debts and an inability to rein in spending. Despite Italy's dreams of participating fully in the EC's development, it currently brings up the rear with Greece and Portugal as the only three countries that meet none of the convergence criteria. "People see the constraints the Community is putting on us as the only way Italy can make it," says Alberto Heimler, a senior economist at Italy's antitrust commission. Almost no one believes that Greece can make the grade even by 1999. But analysts give Portugal a good chance, because it has a determined government with a fresh mandate and a clear parliamentary majority to implement difficult budgetary decisions - benefits Italy does not have.
Painful steps to union One of the dangers of the next few years, however, is that countries will find the steps toward joining the single currency more painful than they had anticipated. "People are counting on [EC] restraints to help us get rid of tremendous inefficiencies," says Dr. Heimler, "but they don't grasp the pain that will entail in letting people go, for instance." Some observers worry that emphasis on the German model's low-inflation principle detracts attention from other requirements. Price stability is "an essential condition" but it must be linked with a strong economy for monetary integration to work, says Hans-Peter Frohlich, an economist at the Institut der Deutschen Wirtschaft in Cologne. And a growing number of Germans - who will be giving up a pillar of their affluence for a single European currency - worry that a strong money could be dragged down by lack of discipline in other participating countries after union takes place. There are provisions for fining countries who don't comply. Helmut Kohl got the strict criteria his financial leaders insisted on before going along with monetary union. But the agreement also allows some leeway on two of the criteria when the time comes for EC leaders to decide who is eligible for the single currency. That is a provision Mr. Kohl has not highlighted much.